by Vikki Bland / finance, factoring, cash flow

Cash is KingHow to boost the bottom line

The finance function is transforming itself from an administrative overhead to a value-generationcentre, from a repository of historical data to a source of future-focused intelligence reports. Asthe economy shifts gear, Vikki Bland outlines current finance, factoring and cash-flow options.

Two years after start-up, a nowsuccessful New Zealand exportbusiness hit a rather significant

wall: after a period of rapid growth, anunforeseen provisional tax bill left thebusiness with insufficient cash flow to paystaff. To make matters worse, the businesshad not proven itself to the extent that itsbank was willing to bridge the gap. At thatpoint, says one of business owners, all theshareholders lost it.

"We were all blaming each other andeveryone was terrified of the effect onstaff and the possibility of going under.We even shouted at our bank manager,"says the owner.

The business - which does not want tobe named - was eventually saved by a familyloan but the lesson was learned. Today, it isthriving thanks to careful cash-flow pro-cesses, smart use of software tools, regularand close consultation with both the IRDand accountants, and good debtor manage-ment practices. It has also forgiven, but notforgotten, the wariness of its bank.

For a variety of reasons, positive andnegative, most businesses in New Zealandneed ongoing and affordable credit facilities

and, occasionally, cash injections. The chal-lenge is to know what to borrow, when, fromwhom and through what finance scheme.

For larger organisations, an additionalchallenge exists around attracting financeprofessionals who know how to align busi-ness and finance strategies, avoid financialcrises, and to plan and forecast future in-come and expenses against macro factorslike a possible economic downturn.

Not surprisingly, your average experi-enced chief financial officer is in demand,attracts a large salary and may sit on theboard. Seeking senior financial profes-sionals through an executive recruitmentagency specialising in finance staff istherefore wise.

Avoid the crisisBefore we look at proactive financial plan-ning and financing for businesses, it's im-portant to look hard at reactive strategiesand cash-flow management. Is it commonfor businesses to hit a cash-flow crisis;what causes it? How can it be resolvedso a business can move from a reactivefinancial position to a proactive one thatoffers choices?

Hamish Edwards, CFO of Welling-ton-based accounting firm Edwards Ac-counting, says cash-flow problems aredisturbingly common amongst small andmedium sized businesses in New Zealand- he doesn't know many businesses thathaven't faced one.

"Small businesses tend to grow fast andthat growth soaks up working capital,"says Edwards.

He says the actual causes of cash-flowcrises depend on a number of factorsincluding what the cash-flow cycle is (theday a business has to pay its creditors com-pared with the day it makes a profit), whatcustomer orders have been placed, howmany debtors exist, how fast the companyis growing - and taxation.

"Too many businesses just don't plan fortheir taxes and some don't even know whattaxes they have coming up," says Edwards.

Yet, as any good accountant will testify,establishing a cash-fiow model can be asaffordable as accounting consultancy feesand a Microsoft Excel licence.

"Cash-flow management doesn't haveto he super-detailed, expensive or dif-ficult, and yet it is essential. Businesses

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need to know their upcoming obligations,they need a daily cash-flow model to helpthem forecast and plan, improve stockturnover, attract investors, save for tax,"Edwards notes.

He says businesses will do well to startwith a pessimistic cash flow.

"Halve your sales and see what it does.Make a budget and stick to it. Don't havean open budget to spend on anything andeverything. Create a culture of cost aware-ness so you are always aware of what youare spending your money on."

Getting helpBanks are not the bad guys refusing tohelp businesses out ofa cash-flow hole, ac-cording to Greg Byrne, Auckland regionalmanager business banking for Westpac.

Byrne says when evaluating businessfunding, Westpac looks for a businessplan or strategy with substance, and atthe existing cash cycles ofthe business, itssuppliers, customers, longevity, and futureindustry prospects. It also looks at macro-economic issues - so ifyou're going to havea cash-flow crisis at some point, it's betterto have it happen in a strong economy.

Businesses in cash-flow crisis oftencannot show the bank a workable busi-ness plan going forward, and many are notversed in formulating and writing businessplans in the first place, says Byrne. How-ever, others are well prepared and may haveother forms of financial backing.

"Our advice is to ring-fence a problemand analyse whether [a loan] would bethrowing good money after bad. We haveto look at how we are going to regularisethe business for recovery and whether itwill be a good business going forward.It there is prudent risk, we will fund thebusiness, but we will not just throw cashat a problem," says Byrne.

In his view, the importance ofthe rela-tionship between business owners and theirbanking managers cannot be overstated.

"Without a degree of relationship, it ishard for a bank to take a position on risk.Our absolute thrust for 2006 is to throw

resources at business banking to ensure weunderstand customers and build relation-ships - small business banking is vitallyimportant to a bank," says Byrne.

Investment financeHappily, businesses don't always needmoney because they're in trouble - moreoften, it's because they're growing and cashflow can't keep up. A business in a robustmarket position has quite a few tradingcards in terms of attracting finance andinvestors - and tbere is plenty of competi-tion between finance companies and bank-ers for the right kind of business lending.So what are some ofthe options open tobusinesses looking for finance to grow,expand or diversify?

Ralph Shale, director for finance andinvestment firm i-grow, which specialisesin raising finance and equity for com-panies, says it's important to ensure anyinvestments create a return greater thanthe risk being taken.

"If you take equity, then you are sellingpart ofthe future growth potential andprofit and equity investors often want toplay a role and have a say," says Shale.

While the debt to a bank or financecompany may be avoided (or lessened)through investors, some investors wantto be involved with the business in a waythat the management ofthe business is notcomfortable with, says Shale.

Once that risk has been considered andmitigated, businesses can start strategicplanning to attract potential investors wellin advance, he says.

"Work equity networks well in advanceof when you need money - give it at least12 months," he advises.

Westpac's Byrne says that thanks tothe economy riding on a tailwind for thepast five years, equity investors have a lotof opportunities so look for some form ofdifferentiator in a business.

"It's that special idea, product or serv-ice," notes Byrne. Shale says investors lookhard at businesses with overseas channelswhere the currency is strong and interest

rates are lower, and businesses should belooking in that direction too.

"New Zealand businesses rely tooheavily on local distribution partnersfor growth. They need to look at verticalintegration and international finance,"says Shale.

Operational financeWhat happens if operational finance ismore pressing than investment finance?In general, banks provide the cheapestoperational business finance and take theleast risk. Byrne says bank businessfinanceproducts are relatively generic and onedimensional, and approval depends on theperceived risk by the bank and its appetitefor new business.

Capital funding can be made availablevia overdraft or flexible credit lines, ascan trade cycle funding around expectedexports or imports, where finance is se-cured against the goods being exportedor imported.

Beyond cash position, it may be possi-ble for a business to increase its operationalfinance through factoring-a process thatdescribes the forwarding of cash to a busi-ness based on what the business is owed byits debtors. The factoring company chargesa commission on the total turnover ofthebusiness as well as charging interest onthe factored loan. Facilities offered mayalso include credit management, from fullservice factoring including collection workand the idea is that when debtors pay, thefactoring company is repaid.

But is fiictoringa good idea? What ifabusiness gets itself into a position where itcannot repay a factored loan? Jason Wil-liams, business development manager forfactoring firm SH Lock, says factoring issimply a line of credit against a company'sassets and tbe factoring company looks fora spread of debtors so there is no concen-tration of risk in one debtor.

"A company with 100 debtors spreadequally is considered a better risk thanone with 10. We look at the shareholdersof a company, its balance sheets and its

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Hamish Edwards;Be realistic aboutupcomtflf obligations

David Cooper: Accept factoringas an innovative form of finance

historic profitability [before we lend] - it'slittle different to a bank overdraft but withmore flexibility," says Lock.

Prom a purely financial view, busi-nesses are better off with the relativelylow interest rate of a bank overdraft,however. Factoring companies get busi-nesses because they step in where banksoften won't.

"In simple terms, imagine if 80 or 90percent of your sales were available on acash basis. We value the business assets ata higher rate than the bank does; we takemore risk," says Williams.

Not surprisingly, he sees a possibleeconomic downturn as carrying poten-tial for more business for SH Lock. As aneconomy heads south, banks traditionallybecome more conservative and may eventry to enforce repayment programmes forbusinesses.

Williams says factoring delivers imme-diate cash flow and allows shareholders topay themselves better and more regularly.Of course, all of this assumes a company'sdebtors pay up.

"If the debtors don't pay, as a last resortthe shareholders are liable for the debt andthe risk remains with the lender," saysWilliams.

Looking forwardIf we've had such a terrific economy forthe past five years, why are debtors takinglonger to pay in New Zealand? Is factoringpart ofthe problem? After all, if businessesput their energies into getting their debtorsto pay on time, they wouldn't need to payfor factoring finance.

David Cooper, national manager forNew Zealand's largest factoring firm Scot-tish Pacific Finance, says some people say

it is easy to get into factoring but hard toget out.

"It's no different to getting out ofa bank-ing facility. If you have borrowed $ 100,000and want to get out ofthe relationship youpay back the $100,000," says Cooper.

He argues that businesses need to startto accept factoring or 'invoice discount-ing' (the slightly different product offeredby some banks) as an innovative form offinance used by successful businesses.

"Fveryone borrows money. If you havea good product no one cares who you bor-row from, no one cares who they have topay and no one cares if you outsource thecredit control function," says Cooper. M

Vikki Bland is an Auckland-based freelance

writer, i/b land ©watchdog, net. nz

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